Here's Why OPEC's Production Cut May Not Be All It Seems

The plan to remove 1.8 million barrels from supply is likely to end up delivering much less, and is arguably already nothing.

There is a new game in town for oil traders, and for want of a snappier name, let's call it 'pin the tail on the 1.8 million.'

The rules go something like this: OPEC delivered an agreement Wednesday to cut its members' production by 1.2 million barrels of oil per day to 32.5 million barrels and said it was negotiating with non-OPEC countries to cut a further 600,000.

Now, with your eyes closed and after taking a few dizzying spins, try to pinpoint exactly how many barrels of oil will come out of global supply.

There is good reason to suspect it will be significantly less than 1.8 million and that oil will, as a result, struggle to make further gains following its 9% rally on Wednesday to just over $50.

"Looking at the last 17 (OPEC) production cuts (1982-2009) observed production cuts have typically come in at 60% of the announced cuts," noted Goldman Sachs analysts in a note. "Our base case...reflects a 73% compliance...for an effective production level of 33 mb/d, slightly better than past compliance but still short of the announced quotas."

That may be optimistic. Saudi Arabia, which can reasonably be assumed to be the most reliable signatory, given that it pushed hardest for Wednesday's deal, will account for 40%, or 486,000, barrels of the reduction. That leaves plenty of scope for undershooting amongst less enthusiastic producers.

Iraq, which resisted inclusion in the agreement until the 11th hour, is due to cut its output by a surprisingly large 210,000 barrels, equivalent to about 17% of the total. Iran, which also demanded exemption until late in the day will be allowed to increase its output by 90,000 barrels, to 3.8 million barrels per day.